Structural Demand for US Debt Strong Despite Bond Market Volatility
The structural demand for U.S. debt which underpins the dollar-based global financial system remains strong against the backdrop of recent Treasury market volatility, Moody’s Investors Service said on Monday.
The firm added U.S. financial regulators have undertaken a series of measures to improve Treasury market resilience and efficiency, and that it expects the market structure will continue to evolve.
“Going forward, as the Fed reduces its Treasury holdings, foreign central banks, pension funds, insurance companies and households will be stabilizing factors in the market,” Moody’s said in a client note.
Earlier this month, Moody’s lowered its outlook on the U.S. credit rating to “negative” from “stable” citing large fiscal deficits and a decline in debt affordability.
Federal spending and political polarization have been a rising concern for investors, contributing to a selloff that took U.S. government bond prices to their lowest levels in 16 years in mid-October.
Treasury yields have soared this year on expectations the Federal Reserve will keep monetary policy tight, as well as on U.S.-focused fiscal concerns.
Investors piled into exchange-traded funds tracking defense companies since October in anticipation of increased military budgets in the U.S. and Europe due to rising incidents of geopolitical conflicts.
The Invesco Aerospace & Defense ETF has seen net inflows of more than $100 million so far this month, according to Lipper data, adding to the nearly $180 million it raked in October.
Peers like the $5.5 billion iShares US Aerospace & Defense ETF and $1.78 billion SPDR S&P Aerospace & Defense ETF have posted net inflows of $178.4 million and $163.6 million, respectively, since October.
“National security threats are growing in magnitude and complexity, driving wider need for the latest defense technologies,” said Ashish Shah, global chief investment officer of public investing at Goldman Sachs Asset Management in a note.
“Companies positioned to benefit as the U.S. and other NATO countries increase their spend on high-tech surveillance and deterrence should do well.”
Since February 2022, the Invesco fund’s total net assets have nearly quadrupled to $2.37 billion from $632 million as the war in Ukraine boosted military spending and aid.
Assets further climbed 19% since the October 7 attack on Israel by Hamas that killed 1200 people, followed by Israeli military strikes on Gaza that have killed more than 13,000 people.
U.S. President Joe Biden has asked Congress to provide $106 billion in supplemental funding, with $61.4 billion for Ukraine and $14.3 billion for Israel.
Of this, $10.6 billion would go to Israeli air and missile defense support, while $30 billion will help supply Ukraine with weapons and replenish U.S. stocks.
The U.S. Congress has approved $113 billion for Ukraine in 21 months since the start of the war.
“Upside risks to inflation and downside risk to growth mean the risk-positive data flow is unlikely to last through 2024, but it’s not clear there will be sufficient data to refute the happy, if probably unsustainable, narrative before the end of the year,” analysts at Citi said.
That said, oil prices slumped almost $4 a barrel, with U.S. crude sliding 5% to $72.84 per barrel and Brent was at $77.32, down 4.8% on the day.
Oil prices are tumbling in part because U.S. crude stocks rose by 3.6 million barrels last week to 421.9 million barrels, government data showed on Wednesday, far exceeding analysts’ expectations in a Reuters poll. [EIA/S][O/R]
Over in Europe, the pan-European STOXX 600 index lost 0.72% from a one-month high.
The dollar index narrowed earlier losses and was flat, while the euro was up 0.12% at $1.08585. [USD/]
Dollar weakness benefited gold prices, which jumped 1.2% to $1,982.19 per ounce. [GOL/]
Indications of a cooling U.S. labor market weighed on Treasury yields. [US/] Benchmark 10-year notes were down 9.2 basis points to 4.443%, from 4.537% late on Wednesday.
The 2-year note was last was down 8.5 basis points to yield 4.8417%, from 4.916%.
“If you don’t get confirmation of the slowing economic direction from every single piece of data every single day, we risk running out of momentum on the big trades,” Societe Generale FX strategist Kit Juckes said. “Until we get to the point where rate cuts are just around the corner, everything is going to be very stop-start. The dollar sell-off is stop-start, the bond market rally is really stop-start and the equity market is all over the place.”
Germany’s 10-year bond yield dipped to a near two-month low of 2.579%, while sterling sank to a six-month low against the euro as dealers in London inched closer their predictions on when the Bank of England (BoE) will start cutting rates. [EUR/GVD][GBP/]